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Executives

Eric B. Remington - Vice President, Investor Relations

Neal J. Keating - Chairman, President and Chief Operating Officer

William C. Denninger - Senior Vice President and Chief Financial Officer

Analysts

Arnold Ursaner - CJS Securities

Matt Duncan - Stephens, Inc.

Stephen Levenson - Stifel Nicolaus

Edward Marshall - Sidoti & Company

Brian Betts - Gabelli & Company

Robert Kirkpatrick - Cardinal Capital

Kaman Corporation (KAMN) Q4 2008 Earnings Call February 27, 2009 8:30 AM ET

Operator

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2008 Kaman Corporation Earnings Conference Call. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of today's conference. (Operator Instructions).

I would now like to turn the presentation over to your host for today's conference, Mr. Eric Remington, Vice President of Investor Relations. Please proceed.

Eric B. Remington

Thank you, and good morning everyone. I'd like to welcome you to the company's 2008 fourth quarter conference call. This call is being webcast over the Internet at www.kaman.com and an online archive of this broadcast will be available within two hours of the conclusion of the call and will be available from March 6th at this site.

Conducting the call today are Neal Keating, Chairman, President and Chief Executive Officer and Bill Denninger, Senior Vice President and Chief Financial Officer. Before we begin, let me take a moment to reference the Safe Harbor statement under the Private Securities Litigation Reform Act of 1995. This conference call may contain certain forward-looking statements that are subject to significant risks and uncertainties including the future operating and financial performance of the Company.

Although the Company believes the expectations reflected in its forward-looking statements are reasonable, we can give no assurance that such expectations or any of these forward-looking statements will prove to be correct. Important risk factors that can cause actual results to differ materially from those reflected in the company's forward-looking statements are included in our earnings release, filed yesterday and in the filings with the Securities and Exchange Commission.

In addition, the information contained in this conference call is accurate only on the date discussed. Investors should not assume that the statements made in this conference call remain operative at a later time. The company undertakes no obligation to update any information discussed on the call.

Please turn to exhibit one, and with that, I'll turn the call over to Neal Keating. Neal?

Neal J. Keating

Thanks, Eric and good morning. I'd like to begin by saying that during 2008, we continued to execute against our operating strategy and generated solid performance particularly in light of current economic conditions. We are meeting our plans for our three recent acquisitions and we made significant progress during the year, correcting the issues at our Wichita facility.

We consistently exceeded our Joint Programmable Fuze production targets and results in both our helicopters and Specialty Bearings businesses remained strong.

This solid performance help to somewhat offset the dramatic slowdown that hit our industrial distribution segment in the last two months of the year.

While it is impossible for anyone to escape the impact of this global economic downturn. We believe the diversity of our businesses and customer base should help us through this difficult period.

Starting with a high level review of the numbers on a consolidated basis for the quarter, net sales from continuing operations rose 16.2% to $316.4 million driven by sales growth across all of our businesses.

Net earnings from continuing operations were $6.8 million or $0.26 per diluted share compared to $9 million or $0.35 per diluted share in the prior year period.

For the year, sales from continuing operations grew 15.4% to almost $1.3 billion, and net income from continuing operations was $35.1 million or a $1.38 per diluted share.

With that, let's discuss some of the details on each of the businesses. There is clearly concern these days about the outlook for commercial aerospace sector.

I'll talk in more detail about our mix in each business, but keep in mind as we head into this period that about two-thirds of our overall aerospace business is military related which is much more stabled than the commercial market.

I'll start with Aerostructures. At the top-line, the business turned in strong performance for the quarter in year with sales rising more than 44% over year ago levels driven by the contribution of Brookhouse and the growth of the BLACKHAWK program.

Let me count it Brookhouse, first the acquisition has exceeded our internal plans. Second, Brookhouse provides new reach into Airbus BAE system and other companies across Europe. And third, the combination with command gives Brookhouse, access to programs that would not have been available to them in the past due to their relatively small size, and we are working and bidding on significant new opportunities that we will update you on during future calls.

Our revenue was up for Aerostructures for the period, operating income decreased from year ago levels. Wichita again was the primary issue.

However at this point, we believe the actions we've taken have addressed the operational issues at the facility. We are now looking to add to the revenue business base in Wichita to return the facility to profitability.

Given the uncertainties surrounding the commercial aerospace market, our Aerostructures business is well-positioned with 80% of its revenue from military platforms.

Well, ultimately, we would likely have a more even balance of military and commercial business in the short-term, this will serve as well.

Finally, the longer-term nature of most of our contracts provides us with solid revenue visibility into this business for 2009 and beyond.

Sales growth will moderate over recent levels, but with our current programs and the ramp up of the A-10 program in 2010, we have a good base of business of which to build going forward.

Overall, we're pleased with how this business is positioned in an uncertain environment.

Moving on the Precision Product Segment, the story is similar to recent quarters with a strong increase in JPF sales to the U.S. Military. However, the essentially breakeven nature of those sales reduced the operating margin in the quarter and full year periods.

As compared to the fourth quarter of 2007 results, this quarter reflects an operating profit reduction of $1.2 million related to the 40 millimeter product line which was sold in 2007, and the JPF facilitization contract that was completed in 2007.

For the full year 2007, these non-recurring items contributed $4.5 million in operating profit.

We are very pleased with the progress we've made on the JPF, and as we proceed into 2009, we continue to drive improvement and develop new ways to further enhance our performance and profitability on this program. A redesigned of the JPF fuse, which improved its manufacturability and reliability as past its high-speed, impact sled and aircraft flight testing qualifications, and we expect to ramp up this new design into production early in the second quarter pending final customer approval.

We are also making very good progress in our renegotiation of the JPF contract for auctions 6, 7, and 8. We feel we are well-positioned for the Air Force to award a sole-source contract to us, and we have responded to their request for proposal.

Our expectation is that by the time we speak with you on our next conference call or before we will be able to confirm that we have been successful in obtaining a higher price and future sales performance JPF to U.S. government.

Helicopters reported a solid quarter with increases in both revenue and profitability over the fourth quarter of 2007. Their performance was driven our subcontract work for Sikorsky and progress on the Egyptian Upgrade Program, which more than offset to reduce service centers sales resulting from the termination of the Australian program.

In relation to the Australian program, we receive title to the Australian aircraft earlier this month. We continue to pursue marketing opportunities for the aircraft and have secured 43 marketing licenses from the U.S. government to support this effort.

Overall, this is a long-term process that is proceeding as expected, and we would anticipate the 2011 is still a reasonable timeframe for the sale of the aircraft.

The helicopter business was a solid contributor to Kaman's performance in 2008 and we see opportunities to expand our subcontract business.

However, 2009 will be a transitional year for this segment as it will face a revenue decline in the loss of the service center contract with Australia, which contributed $9 million of profitable sales early in 2008.

Specialty Bearings posted another quarter of very strong results despite the headwinds of the Boeing strike, product mix, a stronger dollar and a decrease in operating leverage from slower year-over-year sales growth than previous quarters.

Looking ahead, our Specialty Bearings business remains an industry leader and we expect to see continued strong performance from this business in 2009.

However, unlike our Aerostructures business about 80% of Specialty Bearings sales are related to the commercial aerospace market, exposing it to the challenges facing that sector.

This combined with the challenge of the stronger dollar will lead to slower growth in the coming year. Although profitability should remain sound with margin somewhere between 2007 and 2008 levels.

In our Industrial Distribution business, the fourth quarter brought with a sharp downturn in North American industrial production that had a negative impact on our sales. While we posted a single-digit organic growth rate in October, in November and December we experienced a sudden and severe decline in demand that led to negative organic sales growth. This decline was felt across literally all of the industries that had previously been drivers of our growth, and the negative organic growth has continued into 2009.

Overall, our organic sales growth in the fourth quarter was positive 1.4% in October, negative 8.5% in November and negative 10.4% in December.

Despite the fourth quarter, I would like to point out that we had organic sales growth for the full year of 4.8% which combined with our two acquisitions drove total sales growth of 11% and operating profit growth of 7.1% over 2007 levels.

In reaction to this downturn, we implement that our contingency plans at distribution and began aggressively reducing cost to sustain our profitability. These steps include head count reduction of 10%, a salary freeze for all employees, branch consolidation, and of course reduction of all discretionary spending. Overall, these actions were result in savings this year of approximately $7.5 million.

However, we will not be able to cut deep enough and fast enough to maintain our operating margin.

We are anticipating a sales drop of 10% to 15% which could result in a margin decline of as much as 150 basis points in 2009.

While we reduce our cost to distribution, we will not be do so at the expense of our long-term business prospects. As a leading player with national reach, we continued to have significant competitive advantages in a down market that will allow us to take market share from weaker regional and local competitors.

Acquisitions that enhance our geographic footprint or product offering remain a key part of our strategy and we will continue to pursue these opportunities.

They're also remain sectors of the economy such as energy, utilities and the U.S. government where we can successfully built the presence and we will work to achieve that in the coming year.

Despite the downturn in the market late in the year, KIT had a solid year overall with several accomplishments, including our first acquisitions since 2003, important national account wins and renewals, and impressive organic sales growth through the first 10 months of the year.

While the market for industrial distribution has turned suddenly, we are committed to our long-term strategy for this segment.

Overall, there is no doubt the 2009 will be a challenging year on many levels. However, we expect our aerospace businesses to continue their growth in both sales and profits in 2009.

We exited 2008 in a solid financial position and will maintain a strong balance sheet and focus on cash flow generation and liquidity in 2009.

Most importantly, we will continue to build long-term shareholder value through these challenging times.

Now with that, I'd like to introduce you to Bill Denninger and welcome him to his first conference call as Kaman CFO. Bill?

William C. Denninger

Thank you Neal. I'll try not to repeat information that you've already read on our press release and 10-K both issued yesterday.

However, there are several points I would like to highlight or emphasis and perhaps give you some insight into what we expect in 2009.

As Neal mentioned, results from the Aerostructures segment for the quarter continued to be effective by inefficiencies that are Wichita facility, which had a negative impact on profitability of $2.2 million during the quarter, and partially offset ongoing solid performance of the businesses operations in Jacksonville.

For the full year 2008, Aerostructures had an operating loss of $5.9 million which includes the $2.5 million charge in the first quarter and the $7.8 million non-cash goodwill impairment charge recorded in the second quarter, as previously disclosed. As well as, accumulative impact to income from the operating issues of Wichita in excess of 10 million.

We do not expect the Wichita operation to be profitable in 2009 as again when you generated additional sales base to return to profitability. However, we anticipate the level of losses in 2009 to be much less than what we experienced in 2008, therefore providing a significant year-over-year profit increase.

In helicopters, we received title of the Australian aircraft this month and have taken them into inventory. As we previously discussed, our cost basis in the aircraft consist of 32 million receivable from the Australia that we produce and the value of the guaranteed minimum payments of approximately 26 million.

The connection with those title transfer, we did issue levels of credit to the Commonwealth in the amount of 39.5 Australian dollars to cover the guaranteed payments.

Neal mentioned the challenges based in helicopter this year, but we do expect the business to be nicely profitable and are working to recognize value from the Australian aircraft.

The Precision Products, our efforts this year will be directed to increasing our mix of JPF sales and working to achieve the price increase on U.S. government sales of the JPF in 2010 and beyond.

In addition, we are extremely focused on asset utilization on the business and are working to reduce our overall investment thus increasing returns and generating cash.

At distribution, as you might expect, we're seeing a number of customer bankruptcies. KIT has done a great job of managing further -- losses have been relatively limited thus far.

However, we are clearly mindful of this and are continuing to monitor credit closely. I should mention that on my arrival at Kaman, I was actually quite impressed with the asset management performance within distribution in these difficult times this will serve us well.

Before moving on, I wanted to take a moment to discuss two non-operational issues that will have a substantial impact on our performance in 2009.

Time to exhibit two, the first item is pension expense. The decline seen in equity markets in 2008 resulted in a significant reduction in our pension plan assets. This will cause pension expense to be materially higher in 2009 as compared to 2008.

The schedule quantifies what we expect that increase to be. You can see that we are facing a more than doubling of our pension expense in '09 which will result in a $0.22 negative impact to earnings per share. This will also cover higher contribution to the plan on 2009 of 10.9 million an increase not quite as dramatic as the increase on expense.

Again, while the decline in pension assets do not have an impact on our P&L in 2008, it did have an impact on our balance sheet.

The reduction on assets resulted in an under-funded status, the cash flow (ph) is to make a comprehensive income adjustment to shareholders equity of a $121 million.

As you can see from exhibit three, this have the effect of increasing our leverage ratios as of 12/31/08, while this will somewhat decrease the flexibility of our balance sheet, we still have ample capacity to pursue acquisition opportunities as they arrives.

The other issue is foreign exchange of a strengthening dollar, we'll have varying impacts across our businesses. It will directly affect Aerostructures and Specialty Bearings, with an Aerostructures most to Brookhouse expenses are denominated in pound sterling, and within Specialty Bearings, the German operations conduct most of their business in euros.

While we were naturally hedge by having sales and expense in the same local currency upon translation, we will experience lower sales on profit dollars.

On benefit of the strengthening dollars were significantly reduce our cash liability in U.S. dollar terms to the Australians in connection with the SH-2 settlement. And they recall when we announced the settlement that we talked about the liability of the Australians being $37 million based on the extreme rate at that time.

Our agreement is actually a commitment to 39.5 million Australian dollars. Since then the Aussie dollar has declined significantly against the U.S. dollar, and through foreign currency exchange contracts, we have essentially reduced $37 million payment to $26 million.

Now before handling the call back to Neal, let me comment that while leverage has increased over the course of 2008, it remains very low with total debt of approximately $94 million at year-end, only $6.2 million of which comes during calendar year 2009.

Also we have a companywide focus on working capital management, cash flow optimization due to our businesses have started to establish and actions underway on both these areas. In all, we are pleased with our performance in the challenging 2008, and believe we are well-positioned for 2009.

With that, I'll turn the call back over to Neal.

Neal J. Keating

Thanks Bill. Before we open up for questions, I want to summarize and add a few additional thoughts. As I said at the beginning of the call, we are facing a challenging economy in multiuse capital markets. The diversity in our business lines and end markets is proving to be an especially important competitive advantage for us in today's conditions.

In aerospace, we believe we had a solid foundation for the future. While some of our businesses may face challenges, we expect substantial improvement in Wichita and opportunities for incremental growth during new program wins as to combine Aerostructures, Brookhouse business goes to market.

In addition, while conditions in the commercial aerospace market will affect the growth rate in Specialty Bearings. We do expect continued growth in solid profitability from this segment. The downturn in the industrial distribution was sudden but not unexpected, and now that it is here, we are not assuming a recovery in 2009 and we'll manage this business to adapt the current market conditions.

Importantly, we entered 2009 from a position of financial strength and we'll take advantage of this to pursue strategic acquisitions on both sides of our business as they present themselves.

The current volatility in the markets requires everyone to keep an eye towards they hearing now and respond in real-time to fluctuations in the business with aggressive cost control.

All the while, we will remain as focused now as ever and nurturing customer relationships in investing to achieve operational excellence and executing and growth initiatives that are in line with the long-term success of our business.

That concludes our formal comments, and with that I'll turn the call back to Eric.

Eric B. Remington

Thanks, Neal. Operator, can we have the first question, please.

Question-and-Answer Session

Operator

(Operator Instructions). And your first question comes from the line of Arnie Ursaner with CJS Securities. Please proceed.

Arnold Ursaner - CJS Securities

Hi, good morning.

Neal Keating

Good morning, Arnie.

Arnold Ursaner - CJS Securities

Two things, I've like to see, if you could perhaps quantify or give us a little better feel for, one is the negative impact you had in Wichita -- how much that impacted your results. And two, perhaps try to quantify given the various pieces of your business the impact of Boeing strike on your results.

William Denninger

Arnie, hi, it's Bill Denninger. Wichita as you know we have the $7.8 million goodwill write-off. We also have $2.6 million in tooling write-off. In addition of that for the full year, the operating inefficiencies were cost us roughly $10 million.

Arnold Ursaner - CJS Securities

Okay. What was the number in Q4 of the inefficiencies?

William Denninger

The operating loss for Wichita in the fourth quarter was 2.2 million.

Arnold Ursaner - CJS Securities

Okay. And when do you expect that getting to breakeven or more normal profitability?

William Denninger

Our plan this year as we've said is for a loss for the full year and we're targeting to try and reach breakeven toward the end of the year. We do need to get additional sales base if you will into the Wichita operation for that to happen.

Arnold Ursaner - CJS Securities

Okay.

Neal Keating

Arnie, and the second part of your question. Where did we see impacts for the -- of the Boeing strike. We clearly saw in two areas, if you look at the degradation in margin in our Specialty Bearings business, there were really multiple different drivers of that as we've said, one of them was lower Boeing sales, which for us was very good margin sales. We replaced that with -- obviously therefore it led to a higher mix of military business for us in the Specialty Bearings business, which while still nicely profitable, it's lower profitability.

And then also because of lower shipments to Boeing out our U.S. facilities, the overall sales mix shifted towards our German subsidiary and that the combination there are A, it is a lower margin business to begin with, and B, the foreign currency exchange incurred the margins in that but that's where we saw one of the elements of Boeing impact. And the second as well within the Aerostructures Group, obviously in our Jacksonville facility, we do work for Boeing and both the 777 and the 767, so there were some push outs in the fourth quarter there as well.

Arnold Ursaner - CJS Securities

I think, I will stop right there. Thank you.

William Denninger

Thank you.

Neal Keating

Thank you, Arnie.

Operator

And your next question comes from the line of Matt Duncan with Stephens, Inc. Please proceed.

Matt Duncan - Stephens, Inc.

Good morning, guys.

William Denninger

Good morning.

Neal Keating

Good morning, Matt.

Matt Duncan - Stephens, Inc.

First question, I had really on KIT. Neal appreciate the insight, you gave us on the month-to-month sales trend there, but what does that looks like maybe if you could extend that out to January and so far in February, as the decline accelerated.

Neal Keating

We haven't seen an accelerating of the decline Matt, but we haven't seen any improvements in the levels we experienced in December.

Matt Duncan - Stephens, Inc.

Okay. So down kind of 10% of 11%?

Neal Keating

That's correct.

Matt Duncan - Stephens, Inc.

What were the sales from ISC and INRUMEC in the fourth quarter, just trying to get to the organic growth rate for that business in the fourth quarter for the whole quarter?

Neal Keating

There were about roughly between 15 and 16 million back for the fourth quarter.

Matt Duncan - Stephens, Inc.

Okay. So I'm coming up with roughly kind of a down 1.5% to 2% for the full quarter. Is that about right?

William Denninger

That's for the full quarter, but if you look at sales per day which is what we tend to monitor, we're actually down about 6.1% for the quarter.

Matt Duncan - Stephens, Inc.

Okay. So you got an extra day in the quarter?

William Denninger

I don't remember the days but...

Neal Keating

Actually, I think we had a couple extra days. We actually had three extra days, one extra day in November and two extra days in December, Matt so...

Matt Duncan - Stephens, Inc.

Okay.

Neal Keating

It was probably not the best year for us to have three extra days in the fourth quarter of '08 but that's how it worked out. But your insight is correct if you look at the crosshaul from the fourth quarter of '07, Matt to the fourth quarter of '08.

There is roughly 90 basis point degradation, and there is four real contributors to that. The first is that we had obviously the two acquisitions that well profitable, brought our overall return down by the 20 basis points that you just hit on.

The second was that we -- as we talked about we had a number of new green field branches and other service centers that we built in, and year-to-year from fourth quarter to '07 to fourth quarter of '08 that was another about 30 to 35 basis point degradation in the margin.

When you look at the decline in revenues, in our base business where we're down roughly $4 million from the fourth quarter of '07 into the fourth quarter of '08. Jack and his team did a very good job, they were prepared with contingency plans since the beginning of the year, they put them in place, but still despite that we had about a 35 basis point degradation from that lower sales but they were not able to offset through their cost reduction opportunities.

And then the fourth factor would be that we had approximately something less than $200,000 of severance expense. So if you had tick through it the main causes were one, the acquisitions and the degradation from that, the new green field branched and the combination of lower sales and margin conversion in severance cost.

Matt Duncan - Stephens, Inc.

Okay. And then Neal if I look at your guidance for sales in KIT it be down 10% to 15%, I assume that's a organic down 10 to 15, not the whole business because you are still getting some positive impact from the acquisitions.

Neal Keating

Matt that would be true. Here is -- we also just counted that what we're seeing year-to-date. And so I think we're in that ballpark. But we're really concerned about quite frankly is if we have a second leg down in the second half of the year and that's why we're saying a 10% to 12% total sales decline.

Matt Duncan - Stephens, Inc.

Okay. The acquisitions Matt should contribute about 3% year-over-year

Matt Duncan - Stephens, Inc.

Right. Okay. So if you guys that don't see another leg down in the second half of the year then you might should be able to perform better than this guidance but clearly we have to kind a get to the middle of the year before it might have a better idea on that.

Neal Keating

I think that absolutely right, Matt.

Matt Duncan - Stephens, Inc.

Okay, and then as you look at acquisition opportunities for KIT, are you seeing potential targets before willing to talk about lower multiples given what's happening in their businesses and you feel like you will be able to make acquisitions in that business during calendar '09?

Neal Keating

Matt, we feel that we will be able to make acquisitions in that business in '09. To be quite frank, as you would expect we've looked at a couple, and to this point in time while they are beginning to understand what the impact will -- of this recession will be on their performance. The owners are still looking at past performance and trying to modify that by a very small percentage going forward. And we think that the multiples need to come down from where those people are right now.

So quite frankly, we have walked away from a couple because that very reason, but we expect that it should actually be a very good year for us to make good acquisitions in the Industrial Distribution business at very good multiples in geographic territories that we currently don't have a presence.

Matt Duncan - Stephens, Inc.

Okay, Neal that's what I was getting at, I guess as the year whereas on, it would try to be reasonable to assume the business as your targeting are going to start to realize that they're not down 1% or 2%, or down 10 to 12 and I think its, a little bit easier to negotiate those deals at that point. So maybe second half of the year is maybe when you're able to get more active there.

Neal Keating

I think that's right because the other thing is that we're talking typically about small to mid-size privately held companies that are going to struggle mildly with the credit conditions in today's environment. They will likely not be able to forecast aggressively with suppliers as we will on the cost side and also just replenishing their inventory will be difficult.

So I think that given the financial strength we have being one of the larger players that we have some late advantages that will help us and I think you're exactly right in timing, we're more out to see that in the second half of the year?

Matt Duncan - Stephens, Inc.

Okay. And then moving over a couple questions on aerospace, and I'll jump back in queue, I guess that Aerostructures, the Wichita seems to be taking a little bit longer to get profitable than you guys had thought. When do you think you might actually have other programs to put in that facility that will help get it profitable. I guess as your current guidance that you could had a breaking even by the end of the year. Is that based on no additional programs or with that require additional programs?

Neal Keating

That will acquire -- that will require Matt some additional work. We've turned our business development sales and marketing guys on -- frankly within the last six weeks to go out and be able to bring work into that facility.

We were there, Bill and I were there just last month again. And they now have a fairly solid basis, and disciplined quality system that they're operating too. Very good management team onsite now, but for us to have the infrastructure that we need to run that plant we need some more base to bring it profitable and that's really what we're focused on right now.

Matt Duncan - Stephens, Inc.

Okay. And Neal if Wichita was breakeven, what would the entire Aerostructures business operating margin look like?

William Denninger

It would be about 18%.

Matt Duncan - Stephens, Inc.

Okay. And that even includes -- does that include the amortization of intangibles from Brookhouse being put into the profitability for that segment?

William Denninger

Yes, of course.

Matt Duncan - Stephens, Inc.

And then last question and I'll get back in queue. Precision Products, when do you expect to see sales to foreign government being meaningful enough that you can return that segment to sort of a double-digit -- 10% plus operating margin, it had in the past. When should we be thinking about?

Neal Keating

Yeah Matt for -- I'd break it into two parts. The first is that we will begin, I believed in the second quarter of this year delivering option five. An option five has a -- not exactly but about a 50-50 or 45-55 split between foreign military and U.S. military sales. So that will give us a nice increase in profitability, simply based on that mix.

Matt Duncan - Stephens, Inc.

And Neal just to stop. What is the mix under option four?

Neal Keating

I don't know that off hand Matt, but it is a -- over the course of option 3 and 4, it's a relatively low percentage -- I would say 10%.

Matt Duncan - Stephens, Inc.

Okay. So it's a very meaningful increase, okay that's all.

Neal Keating

It is. I would target for 2009 mid-single to 10% operating margins we'd like to have that business in that range. So higher single-digits, and then 2010 again second quarter likely of 2010 when we begin shipping option six that should be another meaningful leg up in improved profitability simply because again we're in the process of renegotiating that contract right now, the sole-source justification on authorization has been signed, we have responded to that request for proposal. And as we said earlier, we're certainly looking forward to being able to report a contract.

Matt Duncan - Stephens, Inc.

Okay, guys. Thanks.

Neal Keating

Okay. Thank you, Matt.

Operator

And your next question comes from the line of Steve Levenson with Stifel. Please proceed.

Stephen Levenson - Stifel Nicolaus

Thank you. Good morning Neal, Bill and Eric.

Neal Keating

Good morning, Steve.

Stephen Levenson - Stifel Nicolaus

You mentioned, the possible or you expect to have the sale of the Australian (ph) close by 2011. There was some commentary in a recent article that suggested you might be able to do it in the current year. Can you reconcile the dates please.

Neal Keating

Sure, I think that there is a couple things there. One would be the timing between where we would actually have a contract, and when we would actually make a delivery.

So when we think about 2011, that's when we have our first payment due to the Australians and what we have been working to do and what we thought was an appropriate alignment was delivery of aircraft equipment in that timeframe. But we may have work required to modify the aircraft to meet the specific missions of a new customer that would take some time frankly.

So, we have licenses for 42 or 43 countries today. We have a number of programs in what was currently the sales funnel. We've responded to multiple RFIs. We've responded to two RFPs. We have had a customer from unable (ph) from an Asian country come over and actually spend time and fly the aircraft tier over a series of days. And so we are working very aggressively to be able to enter into a contract, but there also will be a time lag between a contract award and shipment.

Stephen Levenson - Stifel Nicolaus

Got it. Thank you. In the 10-K it mentions $2.4 million environmental charge for an accrual related to Brookhouse. Can you tell us when that when through the P&L or how it went through the P&L?

William Denninger

It was set up as part of our purchase accounting Steve. It would have been done on the fourth quarter.

Stephen Levenson - Stifel Nicolaus

Okay. So that did impact your net income during the quarter you just reported?

William Denninger

No it did not, it went into personalize capitalize.

Stephen Levenson - Stifel Nicolaus

I'm sorry capitalize, got it.

William Denninger

Yeah.

Stephen Levenson - Stifel Nicolaus

Okay. And last is the dividend where things going the way they are and what's your expectations do you plan on continuing to pay the dividend.

William Denninger

Steve, we are expecting a very good cash flow year of this year 2009 and certainly the dividend is solid as we fitted today.

Stephen Levenson - Stifel Nicolaus

Great. Thanks very much

Operator

And your next question comes from the line of Edward Marshall with Sidoti & Company. Please proceed.

Edward Marshall - Sidoti & Company

How are you doing guys

Neal Keating

Good, Ed.

Edward Marshall - Sidoti & Company

How many bidders are there on the JPF, other than yourself for options 6 through 8.

Neal Keating

There are no other bidders.

William Denninger

Sole-source.

Edward Marshall - Sidoti & Company

Okay.

Neal Keating

That was a very long and difficult road for that team to get to. I think it's indicative of the level of performance that they've provided to the U.S. government and the program, and also recognition on the part of the government that the contract was not profitable for the industrial base.

Edward Marshall - Sidoti & Company

So it safe to say you're going to win the contract, it's just a matter of what price and whether you're willing to perceive as a specific gross?

Neal Keating

I think that's a fair characterization that although we still worry about it everyday until signed.

Edward Marshall - Sidoti & Company

Okay. The timing of the expense savings that of 7.5 million Industrial Distribution. Is that streamlined or do we expect that kind to take place in the second half of the year rather than first half of the year?

William Denninger

No, the actions that we're taking they're primarily related to the salary freeze and head count reductions are virtually done. So there will be a benefit even in the first quarter.

Edward Marshall - Sidoti & Company

Okay. And the 150 basis point reduction that you spoke up, is that of the 4.6 average for the year in that segment?

William Denninger

Yes it would have been after 2008 result which was 4.6%.

Edward Marshall - Sidoti & Company

All right, okay. And then finally the -- I know it's a build way off here but the credit facility. What are your plans there as far as reopening that?

William Denninger

I'm sorry, can you repeat that?

Edward Marshall - Sidoti & Company

The credit facility, I know it's kind of -- it's out there I think its August of 2010 that comes to...

William Denninger

It's tough out there. We're in the process of leading with all our revolver back from those who came into the term loan. Right now, we would go out to try and renew the revolver, we would probably have to contract them. So I'm don't have a final plan at this point but we will be taking action toward the end of the year and wonderful way to make sense we're still looking at options.

Edward Marshall - Sidoti & Company

Thank you very much

Operator

Your next question comes from the line of Brian Betts with Gabelli & Company. Please proceed.

Brian Betts - Gabelli & Company

Yes, hi. Good morning.

Neal Keating

Hey Brian.

Brian Betts - Gabelli & Company

I have a question, I want to dig a little deeper into the pension. I was wondering how the expense is going to run through the segments and then second, looking at the cash contributions in 2010 and beyond given where asset returns and discount rates are. And then I guess lastly the impact of the legislation that was passed on the 2009 cash contribution calculation. Thanks?

William Denninger

The amount that we allocate to segments is basically triggered by the amount of the cash contribution we put into the plan and that's for government accounting purposes. So about 10 million that is shown for segments in '09, is allocated again for government contracting purposes, the 5.9 million for corporate is not for the corporate employees that's the amount we retain at the corporate account if you will.

The 10.9 million, the recent legislation was passed in December allowed us to look back to year-end 2007 funding levels, funding status that would have been about 18 million of that legislation not passed, and in prior years we have done a certain amount of pre-funding which brought it down to the 10.9 level.

So going forward if there is no additional legislation the assets don't recover somewhat and we're going to be looking at cash contributions in the neighborhood of 25 million.

Brian Betts - Gabelli & Company

Okay. And then in terms of the funded status of the plan. At what level would you have to bring that up to avoid penalties or is that a level...?

William Denninger

Well, the year-end '08, 66%, there are certain elements that kick-in at 80 or below but it's not going to affect us.

Brian Betts - Gabelli & Company

Okay.

William Denninger

If you drop below 60, you have to freeze plan accruals and benefits, we aren't there yet.

Brian Betts - Gabelli & Company

Okay.

William Denninger

Hopefully we won't get there.

Brian Betts - Gabelli & Company

Hopefully not yet. Thanks.

Neal Keating

Brian, this is one where given commands financial history and approach certainly predating myself and Bill as well is that, even when the plan was over-funded they made their contributions. So that's helping us now obviously.

Brian Betts - Gabelli & Company

Okay.

William Denninger

Could I just clarify one point I made earlier, so there's no confusion if Wichita were at breakeven. The Aerospace Group in '08 would have an ROS of 17.5%. That's what I meant. Aerostructures itself would it been about 10%.

Operator

And your next question comes from the line of Jeff Hammond with KeyBanc Capital Markets. Please proceed.

Unidentified Analyst

Good morning guys. This is actually Josh filling in for Jeff.

Neal Keating

Okay. Good morning, Josh.

Unidentified Analyst

Just one quickly about clarification item in distribution. The 150 basis points of margin degradation there, that is including the 7.5 million of cost savings?

William Denninger

Yes it is. And let me just further clarify the points on that. We are going to see some fairly substantial severance on the first quarter which will tend to make any savings we get in the first quarter those two will be very closely offset, the real saving should kick-in in Q2.

Unidentified Analyst

Excluding that I guess we're looking kind of a 30% detrimental margin which just seem to little more severe than I would have thought.

Okay, so moving over to aerospace, Specialty Bearings still sounds like you're calling for some modest growth there, but you expect margins to come in from 2008 levels. Is that simply a mix issue or I guess why couldn't we see some operating leverage out of that

Neal Keating

I think that there is a few factors in that Josh. The first is that typically as your growth rate is as high as there has been. Your cost to support that trails. So that is quite up some, number one -- number two, the second thing is that we will have higher percentage of sales coming from our German subsidiary which -- while profitable is lower and also we do expect just some mix shifts based on the rollout rates we see for 2009, that will have a slight moderating impact on margins as well.

Unidentified Analyst

Okay, that's helpful. And then I guess just the bigger picture question on aerospace with respect to the Boeing strike. You declare -- I guess would you classify that as a timing issue where you expect to make up some of that production or would you say that production is more or less vast as Boeing adjust to might be lower demand here?

Neal Keating

I would classify it as the -- that it's lost.

Unidentified Analyst

Okay.

Neal Keating

They are clearly not going to increase their rates as they had predicted in the past. I think that they're using their strike as a way at a macro level to done an adjustment of their rollout rates downward. I think that where we see continuing risk and I don't think we're alone here is perhaps late in the third quarter and fourth quarter of '09 where both Boeing and airbus may have the issues with customer credit for delivery of aircraft.

Unidentified Analyst

That's very helpful. Thanks guys.

Neal Keating

Thank you, Josh.

Operator

And your next question comes from the line of Robert Kirkpatrick with Cardinal Capital. Please proceed.

Robert Kirkpatrick - Cardinal Capital

Thank you and good morning.

Neal Keating

Good morning, Robert.

Robert Kirkpatrick - Cardinal Capital

Question, you have a two year lease, I think with vendor on the former Kaman Music building. Does that return to you at the end of that and if so what will that facility be used for that?

Neal Keating

Very good, Rob. It does return to us. Actually there are two things right now if you were to come visit us that you would see. One is we've actually taken the warehouse and that's where we have the Australian aircraft and equipment store right now. So that is being used, we expect that the it will be mid this year that we will take position of the office facility and our expectations at least at this point is that part questions of our helicopter business will go in there.

Robert Kirkpatrick - Cardinal Capital

Okay, great. Secondly, there has been some discussion at Wichita of renegotiating the tail loader pile on program (ph) and I was wondering if you could give an update on that?

Neal Keating

Actually we have begun that process. In fact we've begun that process this week, we expect that it will not be necessarily a short process.

Robert Kirkpatrick - Cardinal Capital

Sometime in 2009 or...

Neal Keating

Absolutely. I would expect that it will likely be in the second quarter though.

Robert Kirkpatrick - Cardinal Capital

Okay. And then finally, the world has changed a lot in the last six months. Could you talk a little bit about how if at all your strategy has changed.

Neal Keating

It's a good question. We actually, we had our Board Meeting earlier this week and we talked about that and we had discussions with management afterwards. I think fundamentally our strategy has not changed, Rob. If you look at our Industrial Distribution business to begin with very difficult times I mean that's reflected in our numbers and in our comparative group numbers.

However our strategy has been to focus on a national accounts and actually that has helped us mitigate some of the downturn, I mean we look at comparison as you do and our degradation in sales rate has been lower we think that's because of our focused on national accounts.

So that key part of our strategy, will remain -- the other is that we have felt that we need to increase our scale and do that by expanding our geographic footprint. I don't think that part of our strategy has changed either.

We do believe that there will be good acquisitions available for us. So overall that hasn't changed the rate at which we would grow new green field branches has dramatically changed, and the overall -- the strategy hasn't changed. But we are clearly more focused on cash generation from that business keenly focused on the working capital metrics and looking for acquisitions at or right value for what we see the market to be over the course of the next 12 to 18 months.

On our aerospace side, I don't think we've changed either, and the recent I say that Rob is that we've said consistently the two areas that we would allocate capital and resources would be in the growth of our Aerostructures business and our Specialty Bearings business.

When you look at our Aerostructures business today, we would like to increase our present time in composites for any aircraft and that's our strategy. We continue to believe that's important.

We've also talked about the need to diversify to have more commercial business, Boeing and Airbus business, and more business in regional aircraft business. Now interestingly, today we're not very strong in those areas and as probably not a bad time not to be very strong in it, where there is bigger military components we have that will help us for the next 12 to 24 months, and again we think we will be able to acquire capability or companies that would help us increase our mix in business and regional aircraft in time for when that will inevitably return and to continue to increase our footprint on the new aircraft such as 787 and the new A-350.

So again in Aerostructures I don't think the strategy has changed either and Specialty Bearings. While we know that our margins are going to go down they're going to be somewhere between the 2007 and 2008 margin levels. That is still an excellent business for us and our strategy is to increase our footprints on aircraft both existing platforms, when they come in for maintenance in new aircraft platforms. We're going to continue to do that and we are working very hard to identify adjacent markets where we can take that, we think extraordinary technology and provide value to new customers.

So the timing in which we do things might change a little bit but I don't think the fundamental strategy has changed.

Robert Kirkpatrick - Cardinal Capital

So it sounds like there been tactical shifts not strategic shifts?

Neal Keating

I think that is a very good way of capturing it.

Robert Kirkpatrick - Cardinal Capital

Great. Thank you so much.

Neal Keating

Okay, thanks Rob.

Operator: (Operator Instructions). And your next question is a follow-up question coming from the line of Matt Duncan with Stephens, Inc. Please proceed.

Matt Duncan - Stephens, Inc.

Hi guys. Thanks. Just looking at the military aerospace business now that we got a new administration in Washington, if you guys had a chance to kind of look at how this new administration might impact. Your military business over the next four years?

Matt Duncan - Stephens, Inc.

You know Matt, I can't tell you that we have over four years. I can tell you we've looked at the next two. And the reason for that is that -- don't go through there, they're quadrennial planning, and the Obama administration I don't think it will impact anything in a meaningful way for new aircraft procurement at least likely until 2012. So -- maybe later 11. But we have looked at it and we look at the platforms we're on. C-17 there has been, as we've said before there is continuously concerned whether that platform will tail off. They've continued to get new orders for that and in fact, I think UAE placed an order with three of four even earlier this week.

So we have solid orders through 2010 on that and with UAE, with the new efforts in command, with some of the things coming out of the Obama administration that favors a large transport like that. We believe that we're pretty solid there through 2010.

The BLACKHAWK is clearly an aircraft that's in demand from the U.S. Army today. Even as they transitioned out of Iraq and put more troops into Afghanistan. We expect that the demand for the BLACKHAWK will continue and I think that's reflected in all of the comments coming out of the senior management at United Technologies today as well. Joints they talk a lot about new programs and the ones that are under pressure. The Joints Strike Fighter, VRN.

We're trying to grow our content on that because it's now a consortium of some 8 to 11 member countries that have invested in that aircraft. So we are confident is not going to be cancelled that it will still have a life of between 2000 and 3000 aircraft.

And of the other key programs that are talked about today that maybe in danger that the F-22 Raptor, we have very minimal if any content on the Raptor. So while I know it's very important to a number of companies in aerospace for the job's perspective and everything else. That is a program where it was cancelled that we not impact Kaman.

And the second in other areas that they talk about budget cut such as the Future Combat soldier obviously that type of program is something that we don't participate in. So, as we look at it for the next couple of years, we feel very good about the sustainability of the military aircraft program that we're on.

Matt Duncan - Stephens, Inc.

Thanks. That's helpful, and they'll -- back into a corner here but if you look at total company sales and you give it some guidance on certain segments. Look at total company sales in 2009, is your expectation that Kaman can grow in 2009 on the whole?

Neal Keating

You know, I'll tell you. Here we come in to the call today and we give you guys more data than we've ever given in our lives and you comeback after us more. I think that the 10% to 15% down in Industrial Distribution would be -- we can't offset that with growth in aerospace, no.

Matt Duncan - Stephens, Inc.

Okay.

Neal Keating

So I think that we would be down marginally on the top-line, but we'll see, how we will allow if we don't get down that far in Industrial Distribution, we might be able to keep even.

Matt Duncan - Stephens, Inc.

That's what I was getting at the declines or growth whichever it is, it's probably going to be low single-digit on either side.

William Denninger

Yes.

Neal Keating

Yes.

Matt Duncan - Stephens, Inc.

Okay. That's what I was driving. And then if you look at your borrowing capacity, Bill. What is your current borrowing capacity under your various credit facilities?

William Denninger

Hold on one second. At the end of the year, still relatively where we're at. Our borrowing capacity was around 130 million against the revolver.

Matt Duncan - Stephens, Inc.

Okay. That's all I have got. Thanks.

Operator

With no further questions in the queue, I would like to turn the call back over to Mr. Eric Remington. Please proceed, sir.

Eric Remington

Well, thank you for joining us for today's conference call. We look forward to speaking you again when we report first quarter results in a couple of months. Thank you.

Operator

Thank you for your participation in today's conference. This now concludes the presentation. You may now disconnect, and have a great day.

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Source: Kaman Corporation Q4 2008 Earnings Call Transcript
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